With global equity markets displaying higher levels of volatility and maintaining a position within bear market territories it is appropriate now more than ever to look at the numbers, assess the reach and magnitude and determine what could happen over the coming months.
As we see further, and excessive, quarantine efforts implemented across the globe it seems many governing bodies are assuming the worse and that global reporting figures are not yet in unison. Most now see a recession on the cards, should governments fail to control the outbreak and follow quarantine efforts implemented by China over eight weeks.
A recent report conducted by Morningstar showed a slightly more optimistic outlook on the situation. According to this report, in the near-term, the damage is likely to be more substantial, but in the longer-run the impact to global GDP is expected to be just 0.2%. Lead analyst, Karen Anderson, said “overall, we see a weighted average hit of 1.5% to 2020 global GDP and 0.2% to long-run global GDP”.
Similarly, the report showed a more conservative death rate of 0.5% compared to the 3.4% recently stated by the World Health Organisation (WHO), which has somewhat surprised global experts who say the higher WTO figure is a result of differences in testing methodologies, the difference in demographics of countries and incomplete testing and limited testing groups.
Overall the report stated that while there is a projected set of grim scenarios in terms of fatalities, the overall economic impact is more sanguine. It suggests that the recent plunge into bear market territory appears to be an overreaction. Should vaccines come online and treatments improve, then the economic disruption will be equal to a “milder pandemic” such as swine flu, SARS and other similar situations. Still, even with a global fatality rate of 0.5% that still puts the casualty rate at 8 million, including 200,000 in the US, which is well above the high-end forecast for the flu of 61,000.
Looking at the current situation holistically and trying not to get bogged down by the exact consequence each company might feel as a result provides a clear baseline to build from. From that perspective, we have two major scenarios to choose from: the impact is short-term (ending by third quarter) or has longer-term effects.
Coronavirus fades away
Looking at China, we have already seen infection rates start to peak and stabilize, which has given many confidence that the status of epidemic may be short-lived. In this scenario, we could expect obvious economic impacts to last at least for one quarter.
Focusing on the US – travel, tourism and entertainment (7% of GDP) will be the worst impacted. Assuming a 10% drop over three months, then we are left with a 0.7% dip in overall GDP without taking into consideration of businesses such as restaurants. Disruption to supply chains and lower business confidence will slow production and business investment. Consumer goods, while less impacted due to being more essential, may also feel a pinch. Overall though, if the virus is contained quickly, regular economic activity could resume around June and within the US economy impact on the labour market could be limited to a drop in hours worked or reduced hiring.
Worst case scenario
There is no limit to this scenario as it can be impacted by consumer sentiment and confidence, which is tricky to gauge. The alternative scenario is that the coronavirus continues to spread, and the US economy experiences a deep and prolonged economic disruption well beyond May. This scenario has the ability to potentially cause a recession, but many factors are required to see such an event occur. If the virus persists well past May, infection rates will climb, and consumers and supply chains alike would not quickly recover. Not only would spending slow but, what economist call a “second-round effect” could deepen the impact. In this case, a prolonged disruption could lead to lower consumer and business confidence and decreased spending across a broad range of categories. Businesses that had held onto workers in the hope it was a temporary impact may start to lay off, and households would have less income. Furthermore, with interest rates now sitting at 0 to 0.25% in the US, Federal Reserve cannot boost the economy through further cuts. Fiscal policy, such as the recently stated emergency $50 billion relief fund, could provide some support however what we have seen in recent years is that consumption is not restricted by a lack of money but a lack of willingness to spend.
Chairwoman of global research at JPMorgan, Joyce Chang, said “the coronavirus virus is really a test right now of country reliance”, “while rates are now peaking in China, it took eight weeks of serious quarantine efforts to get there”. Looking at other countries, like the US, it’s obvious we are only entering the earlier stages of management and the ability to follow China’s example depends on the action taken. It’s farfetched to think the US could respond as ruthlessly and quickly to the outbreak as China, so the faster we start seeing responsible and immediate action by government officials, the less likely scenario two becomes a reality. Unfortunately, there’s no pretending the US government response hasn’t been well behind what it should have been.
Because this is a multifaceted situation, it seems appropriate to break it down into segments. Firstly, looking at it broadly by assessing historical statistics on returns seen during bear market conditions and secondly, what investment opportunities and potential pitfalls do we face internationally and domestically as a result of the coronavirus for the next three months.
